Euro area March Flash Composite PMI fell by 1.8 on the month, to 55.3. The German and French Flash Composite PMIs fell by 2.2 and 1.1 respectively. PMI data were weaker than consensus expectations for a small decline. The Euro area Composite PMI has now seen a cumulative 2.8 decline since the beginning of the quarter, but at current levels still indicates growth.

The FOMC met on Wednesday Mar 21 and voted unanimously to raise interest rates 0.25% to 1.75% as widely expected. The Fed also signalled a further 2 rate hikes for 2018, disappointing recently upgraded expectations (from 2) of 4 rate hikes in total for 2018. The Fed also upgraded the growth and inflation outlook for 2019 and 2020 and signalled more aggressive rate hikes in those years.

We expect the Fed to maintain a resolute course of raising rates at the stated gradual pace unless

  1. a) economic data is unusually weak, or
  2. b) the credit markets sell off significantly.

We think the resolve of the Fed is driven by

  1. a) its intention to reset its main policy tools in case it needs to deploy it in a slowdown and or
  2. b) its seriously entertaining the prospect of higher inflation.

The global trade war escalated when President Trump announced tariffs on up to 60 billion USD of imports from China. China responded with a list of some 128 US products which could face new and additional duties. The Chinese also expressed the possibility of a buyers strike on US treasuries. Europe has responded with threats to tax bourbon, Harley Davidson’s and blue jeans. Just for context, the US is an 18.5 trillion USD economy with a trade deficit of circa 3% of GDP while China, an 11 trillion USD economy has a trade surplus of 4% and the Euro Area has a 12 trillion USD economy with a trade surplus of some 4% of GDP. (Data is slightly stale but the orders of magnitude are still illuminating.)

It’s hard to separate politics from trade. Last week the US Navy decided to have their destroyer, the USS Mustin, tour Mischief Reef in the South China Sea. We had also noted earlier that imposing tariffs on steel and aluminium and then exempting Canada, Mexico and Europe seemed provocative by omission. In the meantime, President Trump has replaced his NSA HR McMaster with John Bolton. Earlier he had replaced Rex Tillerson as SecState with ex CIA director Mike Pompeo. One would be forgiven for fearing that the President was assembling a war cabinet.

And in Europe, Italy continues to limp along without a viable government. The Lega Nord will not work with Five Star Movement (M5S) and other combinations are unlikely to result in sufficient majority. Repeating the elections without changing the proposition should logically return the same result. The populists retain 60% of the popular vote and back policies incompatible with fiscal discipline. In France, Macron faces the unions who are pushing back on the President’s labour reform agenda. Apart from demonstrations, expect strikes in early summer. Eurostar and the SNCF are already bracing for disruptions during the holiday season.